It is a buyer's marketplace out there for deal seekers. But negotiating a reasonable price and creating synergy is an art not every company masters.
Every acquisition is different; each comes with its own set of challenges. But the principle is the same—two companies with separate ownership unite and operate under the same roof to obtain some strategic or financial goal. With so many potential deal structures out there and the valuation of a target company so tricky, acquiring a business is less science and more of an art.
Companies are not always for sell at opportune times for buyers. However, the last two years have been a great time to be a buyer of businesses, says Darrell Butler, managing director and principal at Billow Butler & Company, a Chicago-based investment bank specializing in mergers and acquisitions. "For the right strategic acquisition, it is a great time for a buyer because there are potentially going to be huge bargains out there and great appreciation possibilities." In an economic downturn, empirical evidence shows that buyers who buy when prices and earnings are low tend to get better than average returns.
In today's environment, it is difficult to grow revenues with the economy growing at a snail's pace. But once you have a stable base you can look at other ways to grow the business and one way is through acquisition, says Butler, who for the last 20 years he has sealed acquisition deals for companies ranging in size from $10 million up to $1 billion. In some cases the focus is buying customers. In others it is buying companies for their product or technology. Nokia acquired Symbian Limited to gain access to platforms for its mobile devices; inBev acquired Anheuser-Busch to penetrate new markets, creating the world's largest brewer; and, AOL acquired TechCrunch, the news blog, as part of a push to build a vast content reservoir and bring in advertising dollars.
Acquisitions are being driven by key trends within a given industry, notes Andrew J. Sherman, author of Mergers and Acquisitions from A to Z, and a partner at the law firm Jones Day in Washington, DC. Fierce competition is driving deals in banking while changing consumer preference is driving deals in the food and beverage industry. Many deals are driven by the premise that is less expensive to buy brand loyalty and consumer relationships than it is to build them.
Whatever the motivating reason, the proper execution of any deal always starts and ends with strategy. It is critical that senior management at least annually thinks about the strategy of business from product, market, geographic, and competitive perspectives, says Butler, and from there determine if capital is available to allocate internally in developing the growth of the business internally or externally through acquisitions.
No one ever plans to enter into a bad deal. Yet, many well-intentioned entrepreneurs and executives enter into acquisitions that they later regret, says Sherman. Classic mistakes include lack of adequate planning, an overly aggressive timetable, failure to look at possible integration problems, and illusive synergies.
Integrate too quickly and you can wreck what made the acquired company so appealing. Fail to move fast enough and you don't leverage the synergies of the two businesses. "Every company says it wants synergy when doing a deal, but few take the time to develop a transactional team, draw up a joint mission statement of objectives of the deal, or solve post closing operating or financial problems on a timely basis," Sherman says.
While no two deals are alike, there are some basics components for executing a successful acquisition.
1. Assembling the Team. Develop an internal working team made up of representatives from finance, sales and marketing, and operations. You also want to consider using outside experienced advisors such as lawyers, accountants, investment bankers, valuation experts, and in some come cases insurance or employee benefits experts. To successfully acquire a company, there must be cohesive thinking and constant communication among team members. Sherman says that the quarterback of the acquisition team should be the CEO or someone appointed by the CEO, who must clearly define both responsibilities and authority of each team member.
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2. Initiating a Target Search. The team should decide if an investment banker will find and evaluate targets or if deal flow will be generated internally through screening, networking and industry contacts. An investment banker will have access to valuable resources and provide invaluable counsel on valuation and negotiation. What if an ideal target company is not for sale? Then the CEO or senior member of the team will have to approach the owner with a compelling offer as to why the two entities would be strong financial and strategic fit. You have an upper hand in that there won't be competition from other buyers, Butler says. "You can keep the price at a reasonable level compared to having an open auction."
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3. Developing a Plan. Why are you doing this? What are your specific objectives? Where are these target companies—domestically or internally? How will you finance the deal? What are the value-added efficiencies and cost savings that will result from the proposed transaction? How will you choose target companies to buy? You will need to draft an acquisition plan that includes objectives, relevant industry trends, method for generating deal flow, criteria for evaluating target companies, and a timetable for deal completion.
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4. Pricing the Deal. No one valuation method will answer the real question which is what is this business actually worth? Value is in the eye of the beholder. Generally speaking, market value is one indicator. Other price factors are capitalization of earnings, discounted cash flow, and net return of assets or equity. But you also want to consider strategic value, meaning, what is the projected earnings stream under the proposed new ownership. Look at assets such as customer lists, brands, intellectual property, and licenses. You want to buy at a reasonable price. You want to get as much as the business is worth to the buyer, says Sherman.
You have to do a good job at not only understanding the financials of a business you are going to acquire. "It is also absolutely critical that you look at the culture of the targeted company and how it may or may not mesh with your own culture," says Butler. "One of the main reasons that acquisitions sometimes fail is that culture of the seller is very different than the culture of the buyer."
5. Financing the Acquisition. Since each transaction is unique the structure will vary with a wide number of options available for financing the deal from equity financing to a layered transaction with multiple layers of debt and equity, notes Sherman. Overall the key factors that affect a structure are the size and complexity of the transaction, the buyer's cash position, the terms of the purchase price, and market conditions.
For larger deals, the public markets are available whether it is offering public stock or going to the public debt market and getting financing. "We are probably at a point in modern economic history where corporate balance sheets are stronger than they have ever been. Many companies have substantial cash reserves," Butler says. The bigger challenge is for smaller deals, he adds, those that are less than $50 million. If you are looking at closing smaller transactions or you are a small company buying another small company, bank financing is going to be nearly impossible to secure.
However, there are creative financing structures that can hopefully bridge that gap. For example, seller notes, a debt obligation whereby the seller will be paid by the buyer at some future point. A private placement offering to a small group of investors is another option for acquisition financing.
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